Section 5: Cost Curves

In the previous section, we learned how to calculate cost data. Below we will plot the data in a graph. The next diagram shows a hypothetical firm’s total cost, total variable cost, and total fixed cost curves. The shape of the curves represent typical shapes of real world firms’ cost curves.

Note that in the above diagram, total fixed cost is constant at $50 for all levels of production, whereas total cost and total variable cost increase with higher levels of output. Total fixed cost plus total variable cost always equals total cost. For example, at output 6, total fixed cost equals $50 and total variable cost equals $100. Thus, total cost equals $150.

The diagram below shows typical average and marginal cost curves of a firm. Note that the marginal cost curve starts at a relatively high value, then decreases steeply. At output 4, it reaches a minimum, and then it increases steeply. The average variable cost and average total cost curves also decrease first, then increase, but they do so more gradually.

Spreading the Overhead

The average fixed cost curve decreases continuously. This is because average fixed cost is total fixed cost divided by output. Dividing a fixed number by increasingly large numbers of output results in smaller and smaller numbers. When firms produce larger and larger quantities of output, they are said to “spread the overhead” (divide fixed costs over a larger output).

The Relationship Between Marginal and Average Costs

Mathematically, it can be proven that the marginal cost curve intersects the average variable and average total cost curves at their minimum point. In the diagram below, the average variable cost and average total cost are at their minimum at respective outputs of 5.8 and 6.4. Thus, the marginal cost curve intersects the average variable cost curve at a quantity of 5.8, and it intersects the average total cost curve at a quantity of 6.4.